Barbara O’Neill, Ph.D., CFP® Extension Specialist in Financial Resource Management Rutgers Cooperative Extension
A small step that everyone can take to improve their finances is to understand basic health insurance terms. Research studies have repeatedly found that many Americans lack a basic understanding of health insurance. This is especially troubling given the recent opening of government-facilitated health insurance exchanges under the Affordable Care Act where millions of people are shopping for policies, some for the first time. It’s hard to make a smart insurance choice when you don’t understand basic insurance terms and what they mean. According to a recent survey of 1,008 adults, 51% could not correctly identify at least one of three common terms- premium, deductible, and copayment. Another survey of young adults found that only 14% could correctly define four insurance terms: deductible, copayment, coinsurance, and out-of-pocket maximum. Selecting health insurance is a complicated financial decision with many “moving parts” including cost, quality of care, plan features, availability of desired service providers, and, in the case of health insurance exchanges, potential tax subsidies. Not surprisingly, studies have found that many people are overwhelmed by health insurance plan options and lack confidence in their ability to select a plan. Recently, several professors at the University of Maryland wrote a paper about health insurance literacy. A relatively new term, and a subset of financial literacy, health insurance literacy refers to a person’s knowledge, ability, and confidence to effectively choose and use health insurance. A key component is an understanding of basic insurance terms. An insurance policy is a written contract with an insurance company. The policy spells out what is and is not covered. Coverage is what the insurance policy will pay for. Most insurance policies provide coverage on a yearly basis. However, you may pay premiums monthly or quarterly. The term “premium” is the cost of the contract or policy. It refers to the amount people pay to have health insurance whether they use it or not. Most insurance policies require policyholders to pay a part of each claim. The deductible is the amount that an insured person will pay before the insurance company pays. Generally speaking, the higher the deductible, the lower the premium for a specific amount of insurance. By choosing a higher deductible amount, you are indicating a willingness to assume more out of pocket expenses. In situations where you want your insurance to pay, you will file a claim or make a request and report to the insurance company. Claims can be accepted or denied depending upon the amount of coverage available, policy exclusions, and other factors. High deductible health care (HDHC) plans have somewhat lower premiums than traditional plans. However, the deductible, or amount that a consumer pays before insurance kicks in, is about twice the deductible of conventional plans. High deductible plans are often tied to Health Savings Accounts or HSAs. These are tax-free employee savings accounts to cover deductibles and other out-of-pocket medical costs. Two other key health insurance terms that are often confused because they sound similar are copayment and coinsurance. A copayment is a specific dollar amount charged for a health care product or service. Examples include a $10, $15, or $25 copay for prescription drugs or for a doctor’s office visit. Coinsurance is the percentage (e.g., 20%) of a covered service that a consumer is expected to pay up to a specified maximum amount known as the stop-loss amount or out-of-pocket maximum. A typical coinsurance cost split is 80/20 with the insurer paying the larger percentage. For an $8,500 medical bill with a $250 deductible and 80/20 coinsurance with a $5,000 limit on out-of-pocket costs, a consumer would pay $1,250 ($250 deductible + $1,000 coinsurance) and the insurer would pay $7,250 ($4,000 coinsurance + $3,250 remaining charges). When selecting a health care plan, follow the “Rule of Three” and compare at least three policy providers. Look for coverage that best aligns with your financial resources (e.g., amount of emergency savings), health history, and expected family medical needs. Create some hypothetical scenarios and “do the math” to calculate the expected annual cost of health insurance when premiums, deductibles, co-payments, and co-insurance are considered. Get help, when needed, from resources such as insurance agents, non-profit agencies with health insurance counselors, and the Affordable Care Act's Health Insurance Marketplace website.